Market Update: The Long and Winding Road to Recovery (Part 2)- Are We Frail?

Market columnist, Jeff McBee, analyzes the long-term impact of the recession on the pallet industry.

By Jeff McBeeDate Posted: 11/1/2011

The last appearance of this column dealt with the immense lack of leadership on Capitol Hill and some of the impacts of “The Great Recession.”

I want to take the idea a step further and examine the long-term impact of the recession on the entire industry. While many of the market update columns deal with strictly the new or recycled pallet market or will deal with regional markets, this month will apply to everyone.

The economy began to turn downward back in June 2008 and then hit the skids in October. Pallet demand slowed considerably in late September and then turned down further again after Thanksgiving. As the downward spiral in activity continued into 2009, plant capacity utilization numbers dropped down around the 60% level for many suppliers as pallet demand turned bleak.

Industry guesstimates have placed typical cost of goods sold in the pallet industry in the low to mid 80% range. Unfortunately for pallet manufacturers, this sort of pricing structure is based on running production schedules close to full capacity to spread overhead.

This leaves many – or even most – pallet companies needing to run upwards of 80% of capacity to stay out of red ink.

So pallet suppliers – new and used – were forced to change the way they operated. And they have. The key to survival has been to operate at lesser levels, while trimming every possible cost and getting more done with fewer people. This has become standard operating procedure - running lean - for three years now.

Another aspect of avoiding red ink is to keep pallet prices at reasonable levels. In part one of this two part look at the economy, I touched on the aspect of the pallet industry being built upon derived demand and the two edged sword aspect when activity slows. Companies seeking to fill plant capacity to cover overhead are tempted to lower prices to attract additional business and many act upon that temptation. Lower pallet prices don’t generate additional pallet demand. They basically move business from one company to another.

Now as we continue into the fourth year of a long, deep recessionary trough, I remain amazed at the overall resilience of the pallet industry.

I have marveled during this time – both over the phone and in print - that if anyone had told me in advance what the forest products industry was about to go through and that most everyone would survive, I would have written it off as crazy talk. The way the situation has played out seems nearly impossible, but the industry has pulled it off so far.

After three plus years of battling the sagging, dragging and sometimes depressing economy, I ask the question, “Are we frail?”

Has the constant striving to find money out of our vendors’ pockets left us as weary as an industry? Has the grind of doing more with less worn us down?

The question remains largely unanswered, but there are clues that the answer is, somewhat.

Comparing the overall industry to a herd, I would say that the herd is healthy, especially considering what the industry has been through the past three years. However, we may be carrying more weak members in the herd than many may suspect.

I don’t say this from any hidden knowledge. There is no inside information that indicates some companies are getting ready to close. It is simply a feel to the market.

There have been plenty of smaller companies that have thrown in the towel. There have even been a few well-known industry players who have fallen along the wayside, or have chosen not to fight the economy any longer.

The temperament of current markets – east, west, new, recycled – it doesn’t matter, they have all begun to take on a different disposition. It isn’t all companies, but there are the odd behaviors that are a plain tip off that some companies are struggling.

There are signs that parts of the industry are struggling. Sometimes it surfaces as erratic behavior. Sometimes companies seem too anxious in the market, too aggressive or on the other end of the scale, too quiet. Sometimes their pricing may be too competitive. When competitors who are intimately familiar with the market are left scratching their heads, it isn’t usually a good sign.

In “The Long and Winding Road to Recovery” (Part 1), the first of the two part series, I mentioned that the pallet industry has always been a lean industry and that we have learned to be leaner by the trials presented by this recession.

We have learned that we can be even leaner.

This recession will not last forever and we will come out on the other side battle tested, equipped and ready to prosper like never before.

In the current market, when things don’t look right, we have to be ready to say so. We need to be ready to walk away from bad business. It is one of the hardest things to do especially when things are tough. During phone conversations, I often liken it to it feeling like leaving money in the street.

A fairly prominent market presence recently closed their business. During the worst part of the recession, he took on a lot of red ink and was never able to climb out of it.

Taking on bad business in the midst of red ink only compounds existing problems. Walking away from bad business can seem counterintuitive.

Reverse online auctions claim to save manufacturers money, but research has indicated that it often ends up costing them more than they are saving.

Overall, I believe the “herd” is healthy. Good business decisions ensure that. As the economy continues to take baby steps toward recovery, good business decisions will be easier to act upon.

Good business decisions may be tough to act upon now, but they are necessary.

(Editor’s Note: Jeff McBee is an analyst who researches and writes about the pallet industry and its raw material markets for Pallet Profile Weekly and the Recycle Record, the only newsletters dedicated to serving the pallet industry. For information on subscribing to Pallet Profile Weekly or the Recycle Record, call 800-805-0263 and ask for Jeff.)